Outdoor Ads: Lots of Long-Term Potential

Sometimes, short-term headwinds can overshadow long-term potential … and that seems to be exactly what is happening in the world of outdoor advertising.

Shares of Clear Channel Outdoor (NYSE:CCO[1]) and Lamar Advertising (NASDAQ:LAMR[2]) — two pure plays in the sector — are trading either above or near their 52-week price targets.

And CBS (NYSE:CBS[3]), which is spinning off its Outdoor business into a Real Estate Investment Trust, seems to be out of gas as well. Analysts have a 52-week price target of $48.85 on the media conglomerate — less than 5% above where it recently traded.

Of course, the current lack of enthusiasm investors feel for this sector is understandable at first glance. Just take a look at recent reports from the three names:

Clear Channel Outdoor didn’t exactly set the world on fire in its latest quarter. Late last month, the company announced a loss of around $148 million, or 42 cents per share, for the most recent three-month period. Revenue, on the other hand, fell 2% to $803 million.

Lamar’s earnings were slightly better … but nonetheless disappointing. Revenue gained around 6% and slightly beat estimates, while new income improved to $7.2 million. Still, that fell short of analyst hopes. Lamar’s EPS came to 8 cents a share — 2 cents below consensus forecasts.

Finally, the Outdoor Americas unit of CBS saw operating income — excluding some items — fall 13% to $94 million in the last quarter as revenue fell slightly to $240 million.

But don’t let a few sub-par earnings reports blind you. For investors with a longer-term investment horizon, there are two big reasons to plow some money into outdoor advertising. First, as the economy rebounds, spending on all forms of advertising will pick up.

Second — and most important — is the growth of digital billboards, which will transform this sleepy backwater of advertising. Long associated with the glitter of Las Vegas and the sensory overload of New York City’s Time Square, digital displays are becoming increasingly common in the rest of America … and are big money makers for the industry.

Cash-strapped cities are discovering that leasing space on their land is a lucrative business for them. Digital displays have also been found to be more effective than conventional ones. Plus, the business offers returns that are too good to ignore.

Currently, digital billboards represent about 5% of the industry’s inventory but generate about 50% of its revenue. In the coming years, their penetration will hit double digits, according to Austen Sherman of IBISWorld. He said, “During the next five to six years the industry should grow at about 3% annually. We expect digital to make up the most of that increase.” And so far, about 42 states have already approved their use.

Another researcher — eMarketer — is also bullish about the industry. Analyst Clark Frederickson sees outdoor advertising spending growing 4% in 2013 due to the rise of digital ads. Plus, this sector hasn’t seen the same declines as traditional media such as newspapers. Fredrickson wrote: “Outdoor also got a boost from political spending as well as telecom spending, which is heavy on outdoor.”

Of course, digital billboards aren’t coming without controversy. Right now, Clear Channel and CBS are in a nasty legal spat with the city of Los Angeles over billboards. The city’s attorney asked both companies “to comply with a court order and turn off more than 100 digital billboards the two had erected throughout the city,” according to The Wall Street Journal[4].

As of now, Clear Channel has failed to get the California Supreme Court to take up its case, while The Journal also notes that the company’s operating results could suffer if it was forced to remove or change the displays.

But Clear Channel might be able seek redress in federal courts on free speech grounds … and the company should be able to make up such a shortfall elsewhere. Plus, there’s so much to like in the sector that struggles in one city and from (mostly) one company should hardly overshadow the opportunity.

I would say that shares of Clear Channel should be avoided since the company already carries a heavy debt load — and because of the controversy in L.A. Lamar, though, may be worth adding if it pulls back from its current levels, which are a 52-week high. CBS, after its spin-off is complete, could also be worth a look.

Because all in all, advertising is a big money maker — and big-time digital billboards are no longer just for Times Square or Vegas.

As of this writing, Jonathan Berr is long CBS. Follow him on Twitter @jdberr.